## Delays in Climate Transition Can Increase Financial Tail Risks: A Global Lesson from a Study in Mexico

_IMF Working Papers, August 25, 2023_

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## Bibliographic details
- Authors: Dimitrios Laliotis, Sujan Lamichhane
- Published: August 25, 2023
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9798400252433.001

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### Summary and objective
- Authors: Dimitrios Laliotis, Sujan Lamichhane
- Date: August 25, 2023
- Objective: Develop a novel forward-looking approach to study the financial stability implications of climate-related transition risks using an integrated micro-macro framework and a new class of scenario called delayed-uncertain pathways.

### Methodology and modeling features
- Integrated micro-macro framework with "delayed-uncertain pathways" scenario class.
- Additional stochastic financial modeling layer via a jump-diffusion process to:
  - Capture continuously changing risks.
  - Capture the potential of large/sudden shocks in the financial markets.
- Application: Transition risks studied for the Mexican financial sector; framework described as easily adaptable to other countries.
- Outputs: Projections of future distributions of various risk metrics to quantify evolving tail risks arising from compounding effects of transition delays and policy-path uncertainty.

### Key findings and projections
- The longer the delays in transition, the larger the future tail financial risks.
- These increased tail financial risks could be material to the overall system.
- The study quantifies projections of future distributions of various risk metrics and the evolving tail risks (no numerical projections provided on the landing page beyond study descriptors).

### Scope, subjects, and keywords
- Subject: Climate change, Credit risk, Environment, Financial regulation and supervision
- Keywords: Climate change, Credit risk, default risk, financial stability, Global, greenhouse gas emissions, jump-diffusion, mapping CGE model sector, NAICS sector classification, probabilities of default, stress testing, tail risk, transition risk, vulnerability indicator

### Implications for policy and practice
- Delays in transitioning to a low-carbon economy increase and compound financial tail risks, implying that timely transition and clearer policy paths can reduce future systemic tail risk.
- The framework is adaptable and can inform country-specific analyses of transition risk and financial stability stress testing.

*Source: Delays in Climate Transition Can Increase Financial Tail Risks: A Global Lesson from a Study in Mexico (IMF Working Paper No. 2023/175).*

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_Source: https://www.imf.org/en/publications/wp/issues/2023/08/25/delays-in-climate-transition-can-increase-financial-tail-risks-a-global-lesson-from-a-study-537987_